LO1 The venture capital market and its role in the financing of new, high-risk ventures.
LO2 How securities are sold to the public and the role of investment banks in the process.
LO3 Initial public offerings and some of the costs of going public.
LO4 How rights are issued to existing shareholders and how to value those rights
Answers to Concepts Review and Critical Thinking Questions
1.(LO2) A company’s internally generated cash flow provides a source of equity financing.
For a profitable
company, outside equity may neverbe needed. Debt issues are largerbecause large companies have the
greatest access to public debt markets (small companies tend to borrow more from private lenders).
issuers are frequently small companies going public; such issues are often quite small.
2.(LO2) From the previous question, economies of scale are part of the answer. Beyond this, debt issues are
simply easier and less risky to sell from an investment bank’s perspective.
The two main reasons are that very
large amounts of debt securities can be sold to a relatively small number of buyers, particularly large
institutional buyers such as pension funds and insurance companies, and debt securities are much easier to
3.(LO2) They are riskier and harder to market from an investment bank’s perspective.
4.(LO2) Yields on comparable bonds can usually be readily observed, so pricing a bond issue accurately is much
5.(LO3) It is clear that the stock was sold too cheaply, so Zipcar had reason to be unhappy.
6.(LO3) No, but, in fairness, pricing the stock in such a situation is extremely difficult.
7.(LO3) It’s an important factor. Only 9.68 million of the shares were underpriced. The other 30 million were, in
effect, priced completely correctly.
Initial Public Offering (IPO) Process
8.(LO4) The evidence suggests that a non-underwritten rights offering might be substantially cheaper than a
cash offer. However, such offerings are rare,and there may be hidden costs orother factors not yet identified
or well understood by researchers.
9.(LO3) He couldhave done worse since his access to the oversubscribed and, presumably, underpriced issues
was restricted while the bulk of his funds were allocated to stocks from the undersubscribed and, quite
possibly, overpriced issues.
a)The average 1stday return for an IPO in the US from 2001-2014 for a company with sales of $120 million
in the past 12 months is 17.1%. Consequently,we can expect that this company will have a similar surge,
putting its price at the end of the first day ~$12.88.
b)“Please accept myresignation.
I don’t care to belong to any club that will have me as a member”—